Special Securities & Financial Listings Flashcards
Which of the following actions taken by a corporation will raise additional capital?
A. Declaration of a stock split
B. Announcement of a call of all convertible preferred shares at par
C. Declaration of a stock dividend
D. Announcement of a rights distribution allowing existing shareholders to buy the additional stock
The best answer is D.
The declaration of a stock split will not raise additional capital. The call of a convertible security will either use the cash of the company if the security is handed in on the call notice; or will have no effect at all on the cash position of the company if the preferred stockholders convert to common stock. Declaring a stock dividend increases the number of shares outstanding with no dollar change in total stockholders’ equity (as the market price of the shares will fall). A rights distribution will raise additional capital, since the existing shareholders are asked to “subscribe” and therefore, pay, for more shares.
All of the following terms describe rights EXCEPT:
A. exercisable
B. negotiable
C. giftable
D. redeemable
The best answer is D.
Rights are not redeemable with the issuer. The rights have a value based upon the lower subscription price available to the holder of the rights than the current market price. The holder of the rights has a number of choices as to their disposition. He can sell them in the market at this value, since the rights are negotiable. He can exercise the rights, buying the stock at the subscription price. He can give the rights as a gift to someone else.
Which of the following statements are TRUE regarding rights?
I Rights give the holder the long term option to buy stock
II Rights give the holder a very short term option to buy stock
III The exercise price of a right is set at a premium to the stock’s current market price
IV The exercise price of a right is set at a discount to the stock’s current market price
A. I and III
B. I and IV
C. II and III
D. II and IV
The best answer is D.
Rights are very short term options (about 1 or 2 months) that give existing shareholders the right to subscribe to new shares at a discount to the stock’s current market price. Warrants give the holder the long term option to buy stock - they usually have a life of 5 years or so. At issuance, the exercise price of a warrant is set at a premium to the stock’s current market price. Thus, for a warrant to have real value, the price of the common stock must subsequently rise in the market.
A customer owns 210 shares of ABC common stock. ABC declares a rights offering, with the terms being that for every 20 rights tendered, a shareholder may purchase one additional share at $20 per share. Any fractional rights holding may be rounded up to buy an additional share. If this shareholder wishes to subscribe, which statement is TRUE?
A. The shareholder can buy a maximum of 10 shares by paying $20
B. The shareholder can buy a maximum of 11 shares by paying $220
C. The shareholder can buy a maximum of 11 shares by paying $420
D. The shareholder can buy a maximum of 110 shares by paying $2,200
The best answer is B.
The terms of the rights offering are that fractional holdings are rounded up to buy 1 additional share. This person owns 210 shares and thus, will receive 210 rights. 210 rights / 20 rights per share = 10.5 shares, which is rounded up to 11 shares @ $20 each = $220 necessary to subscribe.
Which of the following statements are TRUE regarding warrants?
I Warrants are considered to be an equity-related security
II Warrant holders have pre-emptive rights
III Warrants allow the holder to buy the stock of that issuer at a fixed price
IV Warrants are attractive to speculators because of the leverage that they offer
A. I and II only
B. III and IV only
C. I, III, and IV
D. I, II, III, IV
The best answer is C.
Warrants are an equity-related security that give the holder the right to buy the stock of that issuer at a fixed price (similar to a long term call option). Warrant holders do not receive dividends, nor do they have other shareholder rights such as the right to vote or the pre-emptive right. Warrants are much cheaper than the actual stock, because they only have value if the underlying stock price rises and they do not receive dividends. Thus, they give the holder greater leverage if the common stock does appreciate than actually purchasing that stock.
All of the following statements about warrants are true EXCEPT:
A. At issuance, warrants have intrinsic value
B. Warrant valuation is directly influenced by the valuation of the company’s common stock
C. Warrant valuation reflects the life of the instrument
D. Warrant valuation reflects market expectations for future earnings of the company
The best answer is A.
At issuance, warrants typically have exercise prices well above the current market price of the common stock, and therefore are “out the money”. The other statements are true. Warrant valuation is directly influenced by the common stock price; the longer the warrant, the greater its value; and warrant valuation reflects market expectations for future corporate earnings (and hence, future common stock prices).
The exercise price of a warrant is set at issuance at:
A. a discount to the market price of the common stock
B. a premium to the market price of the common stock
C. the market price of the common stock
D. any price designated by the issuer
The best answer is B.
At issuance, the exercise price of a warrant is set at a premium to the stock’s current market price.
A corporation is offering a new issue consisting of 100,000 units at $200 each. Each unit consists of 2 shares of preferred stock and a warrant to buy one additional common share. A full warrant allows the purchase of an additional common share at $5. If all the warrants are exercised, the corporation will have:
A. 100,000 preferred shares and 100,000 common shares
B. 200,000 preferred shares and 100,000 common shares
C. 200,000 preferred shares and 50,000 common shares
D. 50,000 preferred shares and 100,000 common shares
The best answer is B.
Since each unit consists of 2 preferred shares, 100,000 units X 2 = 200,000 preferred shares. Since a warrant which enables one to buy one additional share is also attached to each unit, 100,000 units X 1 = 100,000 additional common shares issued if the warrants are exercised.
Which statements are TRUE about the time value and intrinsic value of rights and warrants when issued?
I Warrants have time value at issuance
II Warrants have intrinsic value at issuance
III Rights have time value at issuance
IV Rights have intrinsic value at issuance
A. I and III
B. I and IV
C. II and III
D. II and IV
The best answer is B.
Warrants are long term options (usually 5 years) that allow the holder to buy the stock at a substantial premium to the current market price. Therefore, the stock’s price must rise substantially over time for the warrant to have any real monetary value. They have no intrinsic value at issuance; but they have 5 years of “time value.”
Rights are very short term options (30-60 days) granted to existing shareholders that allow then to buy the stock at a discount to the current market price. The discount is the “intrinsic value” of the right. However, because they are so short term, they have virtually no “time value.”
ADRs are used to:
A. facilitate trading of domestic securities in foreign countries
B. facilitate trading of foreign securities in the United States
C. allow trading of rights on exchanges
D. allow trading of warrants on exchanges
The best answer is B.
American Depositary Receipts are the means by which foreign securities are traded in the United States.
An ADR is:
A. a U.S. security held in U.S. branches of foreign banks
B. a foreign security held in foreign branches of U.S. banks
C. a negotiable certificate denominated in a foreign currency
D. a negotiable certificate denominated in U.S. currency
The best answer is B.
An American Depositary Receipt is a foreign security that is held in a foreign branch of a U.S. bank. The bank issues receipts against these shares, and the receipts are registered in the United States as securities and are listed and traded on U.S. stock exchanges. In this manner, the foreign corporation does not have to register its shares with the SEC in order to have trading take place in the U.S.
Which of the following statements are TRUE about American Depositary Receipts?
I ADR dividends are paid in foreign currency
II ADR dividends are paid in U.S. dollars
III ADR market prices are subject to foreign currency exchange fluctuations
IV ADR market prices are not subject to foreign currency exchange fluctuations
A. I and III
B. I and IV
C. II and III
D. II and IV
The best answer is C.
Dividends from ADRs are declared by the underlying issuer in the foreign currency, but are converted by the depositary bank and paid in U.S. dollars. The market price of ADRs will be influenced, therefore by not only the performance of the company’s stock, but also by foreign currency exchange fluctuations.
XYZZ ADR represents 10% of the value of an XYZZ ordinary share. The ordinary shares trade on the London Stock Exchange, where the current price is 400 British Pounds (BP). The current exchange rate for the British Pound against the U.S. Dollar is $1.40. The ordinary share pays an annualized dividend of 12 BP, with payment made semi-annually. The XYZZ ADR is listed on the NYSE. If a customer places an order to buy $560,000 of the ADR on the NYSE, how much will the customer receive in each dividend payment?
A. $8,400
B. $10,000
C. $16,800
D. $33,600
The best answer is A.
Because the XYZZ ordinary share trades for 400 BP in London, and the BP is worth $1.40, each ordinary share is worth 400 x $1.4 = $560. The ADR created for the U.S. market is 1/10th of this amount, or $56 per U.S. ADR. A customer who invests $560,000 will buy $560,000 / $56 = 10,000 ADR shares.
The annual dividend rate per ordinary share is 12 BP, so the semi-annual payment is 6 BP. Since the ADR is worth 1/10th of an ordinary share, this becomes .6 BP per ADR share x $1.40 exchange rate = $.84 per ADR share x 10,000 shares = $8,400.
An ADR has been issued where each ADR equals 600 ordinary shares of the foreign issuer. If a client wished to buy enough ADRs to cover 6,000 ordinary shares, how many ADRs must be purchased?
A. 1
B. 10
C. 100
D. 1,000
The best answer is B.
Since each ADR equals 600 ordinary shares, then 10 ADRs equals 6,000 ordinary shares.
Note that when the foreign shares are inexpensive, it is typical for the ADR to cover a “multiple” of shares; and when the foreign shares are expensive, it is typical for the ADR to cover a “fraction” of shares.
XYZZ ADR represents 10% of the value of an XYZZ ordinary share. The ordinary shares trade on the London Stock Exchange, where the current price is 400 British Pounds (BP). The current exchange rate for the British Pound against the U.S. Dollar is $1.40. The ordinary share pays an annualized dividend of 12 BP. The XYZZ ADR is listed on the NYSE. If a customer places an order to buy $560,000 of the ADR on the NYSE, the customer will buy how may shares of the ADR?
A. 1,000
B. 1,400
C. 10,000
D. 14,000
The best answer is C.
Because the XYZZ ordinary share trades for 400 BP in London, and the BP is worth $1.40, each ordinary share is worth 400 x $1.4 = $560. The ADR created for the U.S. market is 1/10th of this amount, or $56 per U.S. ADR. A customer who invests $560,000 will buy $560,000 / $56 = 10,000 ADR shares.
